Tax Reform and FATCA: Will the Foreign Account Tax Compliance Act be Amended?

In 2010, following the financial crisis, the U.S. Congress passed the Foreign Account Tax Compliance Act.

By Karina Rollins

The goal was to make it more difficult for U.S. citizens to evade taxes through accounts abroad. However, the new law imposes extensive reporting requirements not only on American taxpayers, but also on non-U.S. companies and banks doing business with U.S. citizens around the world. Might the Foreign Account Tax Compliance Act (FATCA) be amended in the Trump Administration’s tax reform package?

American citizens who have financial assets outside the United States—which includes the roughly 7 million Americans living overseas—have long been required to report those assets to the IRS, as the United States applies the principle of citizenship-based taxation to all citizens regardless of their place of residence. Since 2011, the Foreign Account Tax Compliance Act (FATCA) also requires foreign financial institutions to report information about assets of U.S. persons to the IRS.

Of what interest is this to the Swiss? FATCA requires Swiss (and all non-U.S.) financial institutions (FFIs) to report information about financial accounts held by U.S. taxpayers, or by FFIs that have U.S. clients, directly to the IRS. Switzerland signed a FATCA agreement with the U.S. in 2013.

While the requirement that U.S. citizens report their overseas assets is uncontroversial, the requirement that FFIs submit information about their clients’ accounts to the IRS is causing great difficulties for banks and companies around the world. Financial institutions continue to struggle to find ways of implementing the new IRS requirement without violating their countries’ client privilege and privacy laws, and some have declared that they will no longer provide services to U.S. citizens. Others describe the cost of compliance as many times the amount of additional tax revenue the IRS can hope to receive. These costs, of course, will be passed on to clients and consumers—that is, the larger economy.

How is the U.S. able to get institutions in other countries to comply with a U.S. law? Economics and finance writer Nick Giambruno states that the “U.S. can enforce FATCA in foreign countries because it controls the world’s reserve currency and has threatened to effectively cut off access to the U.S. financial system for countries that don’t comply.”

FATCA, Financial Privacy, and the OECD’s “Global Standard”

Not only does FATCA impose cumbersome and costly rules on business, banks, and private individuals, it has created “an inescapable global dragnet.” While the computer age has already been chipping away at financial privacy for years, FATCA appears to be the final nail in the coffin. As Nick Giambruno explains: “The U.S. can access information about any account virtually anywhere.”

And that’s just the beginning of the problem: U.S. success in enforcing FATCA has inspired “countries to band together and push for a sort of FATCA on steroids,” Giambruno says. This involves the OECD’s plan for a “global standard on Automatic Exchange of Information” (AEOI)—informally called GATCA.

How will this global standard work? Rather than each country setting up its own version of FATCA, with all the bilateral agreements that would entail, the leaders of the OECD “are pushing to make the exchange of financial information automatic among all countries,” Giambruno explains. “In the near future, it’s very likely that no citizen from any country will be able to ‘hide’ financial assets anywhere. Every financial institution in the world will automatically send information on foreign account holders to other governments.”

Some critics see these developments as having nothing to do with catching tax evaders, and everything to do with “establishing a global tax.”

FATCA critics also claim that all these costly regulations “completely and utterly fail to do away with the real tax evaders, who are not going to . . . hide their millions by opening a savings account in the Royal Bank of Scotland.” Critics, also point out that the U.S. is one of the few countries that uses citizenship-based taxation instead of residence-based taxation—the latter of which taxes people only where they live and work, regardless of whether that country corresponds with citizenship.

Dan Mitchell (YL 2003) calls FATCA an “odious law” that “threatens the rest of the world with financial protectionism.”The Economist writes that FATCA’s “[c]ompliance costs, mostly borne overseas, are likely to be at least double the revenue that the law will generate for America. The necessary overhauls of systems and procedures and the extra digging around to identify American clients could add $100m or more to a large bank’s administrative costs. No wonder bankers have dubbed FATCA the Fear And Total Confusion Act.”

A FATCA Repeal?

In March 2017, 23 taxpayer-advocacy and grassroots groups sent a joint letter to Congress, urging that repeal of FATCA be included in the planned tax-reform package. Mitchell, a senior fellow at the Cato Institute, said that “FATCA arguably is the worst provision in the entire tax code, undermining U.S. competitiveness and setting the stage for foreign attempts to tax activity in the United States.” Grover Norquist (YL 1993), president of Americans for Tax Reform and one of the signees of the letter, said that FATCA is “an intrusive, complicated, painful and unfair tax regime designed to be massive overkill in hunting for coins between the cushions.”

President Donald Trump and congressional Republicans have promised to finalize the largest tax-reform package since 1986 by the end of 2017. Described by proponents as “pro-growth,” many also see the comprehensive reform plan as an opportunity for repealing FATCA. The plan includes repeal of the Alternative Minimum Tax (AMT)—essentially a parallel income-tax created in 1969 to catch high-income households. The AMT is often criticized as creating uncertainty for taxpayers, threatening middle-income families, and being unfair. Norquist calls FATCA “the AMT for Americans overseas.” Glad that the Trump tax reform includes “finally abolishing the AMT,” he states that “we should put FATCA to sleep at the same time.”

The international law firm Davis Polk says of FATCA: “Like many elements of U.S. tax law, the legislation creates a system designed to target tax evaders while imposing burdens on compliant persons. Some have likened FATCA to using an elephant gun to kill a mosquito.”

FATCA affects around 200,000 financial-services providers and other industries around the world, creating enormous compliance challenges for them.

FATCA imposes a 30 percent withholding tax on all payments going from the U.S. to an FFI in those cases where the intermediary does not have a tax agreement with the United States.

If the FFI does have an agreement, it is obliged to report accounts that it manages for U.S. citizens as well as for U.S.-controlled foreign companies.

The tax consequences of FATCA are “draconian.”

The level of detail with which FFIs are charged to ensure that all relevant U.S. taxpayers will be included “exceeds the normal anti-money laundering ‘Know-Your-Customer’ standard and gives the impression that the IRS intends to treat foreign financial intermediaries as it does banking institutions located in the U.S.”

“Conflicts between divergent legal systems are pre-programmed.”

“What is striking is the intentional incongruity existing between the payments collected on the one hand and the FFI’s registration obligations on the other. In addition to the name of the account holder and the U.S. Social Security Number…the registration requirements include an account summary and gross realized revenues, withdrawals made by the account holder, as well as the highest month-end balance of the previous 12 months.”

The FATCA rules “represent an unprecedented challenge for the banking industry.”

FATCA also has heavy consequences for businesses outside the finance sector: “A company located in Switzerland that meets the definition of an FFI can nevertheless be affected by the FATCA requirements, namely where it receives income from American sources or profits from the sale of American securities through an American paying agent or an FFI.”